Sunday, July 5

Goodness knows

Good is one of the most common words used in the English language. Goodness in moral philosophy is not easily defined; all you can say is goodness comes in many different ways and involves a value judgment in determining what action is good or otherwise. Even so I have found in 40 years in business a sophisticated moral compass is rarely needed since good action is usually apparent and reinforced from known facts and the underlying reasons for intended actions. On the other hand corruption and corrupt regimes rely on forceful means, coercion, or excessive secrecy to suppress debate to corrupt fair and equitable outcomes.

The question of goodness is rarely debated; since it seems remote and superfluous to the daily grind of living. But such a question goes to the root of our capitalist system which until fairly recently was considered (despite its obvious weaknesses) to be a relatively good system or at least preferred over other ideologies. The current demise to negative growth and widespread unemployment in the world’s economies is undoubtedly the worst since the great depression and suggests serious fundamental flaws in the system. Confidence has been eroded to deliver long term stability and better living standards. New rules to improve both regulation and transparency are to be commended but the system remains largely intact so that it seems loopholes in the new regulations are likely to give us repeat of past and present misery unless we make much more fundamental changes. Risk is an inherent feature of investing and failed corporations are part of an open market capitalist system but what has occurred is an accumulated increase in the power structure of corporations over the post war period which has made us much more vulnerable.

Anyone who thinks power lies in politics is going to be very sorely disappointed as the business as usual signs go up soon after a change in government. That is not to say there has not been or will be in the future very worthwhile changes but rather current disproportionate power base rests largely in large corporations and will continue to be so for the foreseeable future – unless action is taken to readdress the power imbalance. Some would say …. The tail is wagging the dog!

The power shift has moved steadily towards top management and directors in large corporations and to the equally burgeoning Institutions who now manage the huge increased superannuation’s and retirement savings generated in western and Asian economies. The trend towards short term results over the past two decades has accelerated under the influence of the large Fund Managers and an army of overpaid analysts.The Fund Mangers and many Directors either have no equity themselves in the organizations they control or alternatively by virtue of options have no personal risk. Put simply the system is geared for those in power to take on vey large risks(bet the entire capital base of the company through the use of leverage) since they are not exposed to any personal risk on the downside – ‘ hurt money'. The temptation was too great for many as we have witnessed unparalleled greed and recklessness. Many, having presided over a prior period of appalling management decisions walked away with large severance payments.

Retirement and Superannuation Institutions have also added to their fee income by lending the shares they own on behalf of Investors with the Fund (without their authority or knowledge) to Hedge Funds so that can short sell (place sell orders for those shares to create a fall in price) or use the loan shares to vote at meetings aimed at improving returns for the Hedge Funds. All of theses activities are carried out under a cloak of veiled secrecy. Shareholders as such who originally invested in these companies with their hard earned savings or through Retirement funds have neither the power or virtually no power (because of the smaller holdings compared to the large Institutions with large parcels)at all to elect Directors, agree or vote down compensation packages or effectively vote on future acquisitions or company amalgamations.

It is really a question of too much power in the hand of the few who have insufficient equity or incentive to invest in the long term future of the enterprises in which they control. What are needed are measures which will reverse this trend and restore a long term market focus for public companies.

Creation of “A and “B” Shareholders

What I propose for all public companies is the creation of “A" and “B” shares for all of their publically traded stock. The “A” shares are voting shares and would be attractive to long term shareholders whilst the “B” shares are non voting and would be targeted towards short term traders. The immediate advantage and effect of such a scheme would be to create a market for both long term shares and traders which would allow companies to communicate more effectively with those who have a long term objective. The voting "A" shares could also be subject to some time restrictions on their disposal – this might prove to be very worthwhile but could also be impractical.But the creation of the two classes of shares would also allow the public investing in Superannuation and Retirement funds to demand Funds have portfolios available for them for their savings which are made up of “A’ shares or “B” shares – whatever is their product of choice. I would hazard a guess the overwhelming number of members would opt for the “A” shares. Directors of most corporations ( except those only interested in short term trading of shares) would be required to hold only “A” shares and I would propose that a substantial base must be maintained whilst serving in office and any shares allotted under a scheme cannot be disposed of other than over a 3 year period after cessation as a Director. It seems sensible to restrict the right of Directors to hold “B” shares. Any lending of those shares to others ought to be prohibited.

Directors Benefits and salary packaging- voting at Annual General Meetings

I propose the salary packaging of the top management and Directors should continue to be subject to shareholder approval and share options and bonuses are tied to the long term real levels of performance above inlationary expectations.

I think salary caps are a matter of regulation – but it seems sensible to me that shareholders ought to also think about sensible limits on what just one person can be paid having regard for the size of the company and industry. A good start within this contentious issue is to ensure the actual owners of the businesses - the shareholders, have their say with a view to voting on the matter given reasonable input from the company.

It seems likely with more affinity established with long term shareholders that companies will wish to ensure they have the approval of shareholders before even in engaging on major new amalgamations or new acquisitions.

Taxation

The current taxation laws that operate in some countries such as the USA discriminate against companies paying Dividends to shareholders since these dividends are taxed in the hands of the recipient shareholders at the full personal marginal rate despite the fact they may have already been taxed at the company level. This is a form of double taxation. If legislation was introduced to give a credit for the tax rate already paid at the company level to the recipient shareholder it would have the effect of encouraging investing in companies with the ability to pay sustained dividends and further enhance a long term focus.

Conclusion

In economics, large public companies play a dominant role and, in my view, the market structure in which they operate requires radical surgery. That change does not necessarily involve more regulation but rather a change in the system to ensure the focus is from the short term to the longer term. There are many more aspects, with a little imagination that can give effect to this much needed change in the way business is conducted. Shareholders, are not in my opinion unreasonable in their objective to earn a fair and equitable return on their investments. But the tide has turned to give too much power to the Retirement Funds Industry and the directors of those large companies. What I think is needed is to change the way shares are structured in the market to give power back to those who actually write out the cheques- (the owners -eg the shareholders of the businesses who purchased the shares or the investors in the Retirement plans who gave their money to the funds to buy shares ) and restore more confidence in the overall system.Goodness knows.

8 comments:

A great post Lyndsay, a lot to chew on and some timely pragmatic solutions. As you suggest; “Anyone who thinks power lies in politics is going to be very sorely disappointed...” Having opposed the shift in economic planning and the entrenching of greed as a underpinning in the finance sector expectations on my part were necessarily low. We have entered a new and hopefully progressive age, but undoing the damage and rebuilding a more sustainable economic model will not be easy or quick.Being critical of leaders like Rudd and Obama for failing to effect rapid change fails to recognise the complexity of the factors which served to create a global mess. At best we can keep proposing workable solutions to various problems without getting bogged down in ideology. I admire your recognition of that approach. Let the goodness shine.

i got to 'Creation of A and B Shareholders, and my brain short circuited..... you're brilliant, and i'm just too tired to think. but, as far as i got before overloading, i agree with. is it perhaps a case of wealth being determined by value placed on abstract things such as coinage and the speculative future value of an enterprise? we seem to place little value, globally, on mundane things like simple food and basic housing for everyone. but they're the things we could not be without.

a thoughtful post lindsay!i like the quaint idea that owning shares in an enterprise means you own a piece of that company. You share in the fortunes of the company, and every shareholder is treated equally. the board of directors and management are in the employ of the shareholder. and in the interests of the shareholder, a business needs to be run ethically, and in favor of the public good. and a company needs to be managed for the long term, for good times and bad, rather than for the short-term maximation of return on capital.good governance, whether it regards politics or business or pension plans, is the essential ingredient.

An excellent and well thought out plan, Lindsay. The company my mother worked for in Toronto for many years had a profit sharing plan in place for all its employees. She was able to retire in reasonable comfort years before she was eligible for the Canada Pension Plan and in reality, that is how things should be. There are state laws on the books in the US that would curb the greed of the major corporations but the correct people have to be appointed to the positions. Elliot Spitzer learned to his chagrin that these people will bite back but that ought not to stop the efforts at enforcement.

Hi Cart,Granny F,Sera,Susan & Gary Thank you for your insightful comments. Cart – I hope we are entering a new and hopefully progressive age, but as you correctly point out undoing the damage and rebuilding a more sustainable economic model will not be easy or quick.

Granny F, I think, most shareholders are not looking for super returns -rather sustainable returns which are not eroded by inflation. There is enough food and shelter for everyone if we are willing to share and co operate rather than invest in a speculative frenzy. Thanks for the lyrics – always welcome. Sera Owning shares in a company does means you own a piece of that company and for most of my working life I have benefited from owning shares in the companies within my employ and also from those in my self managed retirement fund. Good governance is indeed an essential ingredient. Good and evil are difficult to define; all we can say is there are good and evil ways with intent and purpose important ingredients.

People find it difficult to talk about moral theory but there is nothing ambiguous about deliberately trying to harm someone – that is bad or evil. When we talk about plants and the environment it also becomes a question of what is good or bad – there the effects become increasingly pertinent.

Susan I experienced a similar situation to your mother although the benefits in terms of a retirement were probably more modest.

I agree, it was the lack of regulatory will which allowed the bubble to continue.The law was already there to be implemented.

Gary – yes home again. Congratulations on the company appointment and I read all the information on the website. It should be quite interesting. I attended a seminar myself about the future of carbon trading and its effect on investing about a year ago at a CPA congress and as far I can gather most large companies are taking it very seriously and attempting to reduce their carbon footprint. You friend may find any portfolio of share investments will not be nearly as selective as was first envisaged –given that mostly the larger institutions are making a effort. However once the market in carbon trading becomes more widespread and the price of carbon credits rises it may also generate its own unsustained “bubble” market if we are not careful.The aims and ideas look impressive but maybe you may also want to convince them to “jazz up” the website with some interactive live information or podcasts?

About Me

I have worked in the roles as Company Secretary or Divisional financial executive with larger Australian based multinational companies before changing careers in favour of sales and marketing for the latter 12 years of business life.
My particular interests include corporate social responsibility, ethics and research into more sustainable business practices.
I am a fellow of CPA Australia and an Associate member of the Governance Institute of Australia which was previously called the Chartered Secretaries Australia. I am chairman of the Malawi Support group who are a small group of catholic parishioners who raise funds to support a sister parish in Malawi.